Economy: Next Down Leg to Be
Longer, More Painful Than 2008

In an age of austerity and a financial climate that’s starved for returns (virtually no return on cash and low returns on bonds), institutional and individual investors are left to pick and choose among equities to try and beat the rate of inflation. Mitchell has always been an advocate for owning dividend-paying stocks and speculating in smaller companies in order to make money from the market. There’s no reason why an equity portfolio shouldn’t include DuPont (NYSE/DD), for example, alongside a risky gold stock like Richmont Mines Inc. (AMEX/RIC).As devastating as this may sound, I believe the worst of the economic problems for the U.S. are ahead of it, not behind it.

Please let me explain…

When the credit crisis hit in 2008, the government responded by slashing interest rates, expanding the money supply, propping up banks and private companies, and basically saving Wall Street.

Interest rates, specifically the Federal Funds Rate, have been set at between zero and 0.25% since December of 2008. (It is interesting to note that inflation in the U.S. was 3.2% in April—its highest level since October 2008. As I have been writing for months, the longer the monetary policy remains expansive, the greater the risk of inflation.)

I now believe that short-term interest rates will not rise in the U.S. in 2011. I’m not saying this is a smart move—I’m saying the Fed will find the economy too fragile to raise interest rates. We got an “official” taste of just how pathetic the economy really is this past Friday when the Labor Department reported the poor May 2011 job numbers and the unemployment rate jumped to its highest level for the year.

Here’s where I’m going with all of this…

When the credit crisis hit in 2008, the government and Fed had the tools available to save the economy. In his diligence, Fed Chief Ben Bernanke slashed interest rates, bought troubled securities, and even bought government Treasuries. And the government poured trillions into the economy to save it.

Unfortunately, the government has no bullets left in its guns. Interest rates cannot go any lower than they are. The government can’t be more broke than it is. During this next economic downturn, which is well underway, the government and Fed will have very limited ammunition to fight the weakening economy…and that’s why I believe the next down leg for the economy will be longer and more painful to consumers than the last one.

Michael’s Personal Notes:

Since May 2, 2011, the Dow Jones Industrial Average has tumbled 649 points, or five percent, and none of my stocks have lost money. Some have actually gone up in value.

How can that be?

In respect to equities, I only own gold-related investments at this time. Gold bullion hasn’t really changed much in price since the beginning of May; up or down a couple of dollars here or there. And the gold mining stocks, especially the juniors, have really held their own the past 30 days.

It’s my belief that the stocks of the gold mining companies, the juniors and the major producers, have been consolidating and forming a base from which they will make their next price assault upwards. This time, the gold stocks will lead the yellow metal higher.

Some interesting stats about gold investing my readers should be aware of…

For the nine years starting and including 2002, to 2010, gold bullion and gold stocks had their best months of the year in November and December, except for two years: 2006 and 2008. That’s an 80% chance of gold having its best months in November and December.

Now—and this is where it gets interesting—if I take every year between and including 2002 and 2010, when we had a year where the price of gold remained relatively unchanged in the first two months of the year, January and February, like we experienced in 2011, gold bullion and gold stock prices were higher in November and December of that year 100% of the time.

Needless to say, I’m really looking forward to an extra “golden” Christmas this year.

Where the Market Stands; Where it’s Headed:

Hopefully my readers have been heeding my advice: the possible upside for stocks may not have been worth the risk. However, it’s not time to throw the towel in on the market yet.

This morning, we’ll hear all kinds of reports in the media about how the economy is slowing again and how the market is responding by pushing stock prices lower. (The Dow Jones Industrial Average has now fallen five straight weeks in a row.) Please remember—stocks are a leading indicator, not a lagging indicator. The weakening U.S. economy has already been discounted by the stock market.

The silver lining with the slowing economy is that the Fed will be in no rush to raise interest rates. We might go through 2011 without an increase in the Federal Funds Rate. The single most important factor to the direction of stock prices, monetary policy, will remain accommodative, which to me means that the bear market rally still has upside potential left. My readers will have to determine for themselves if the limited upside for stocks is worth their risk tolerance.

What He Said:

“When property prices start coming down in North America, it won’t be a pretty sight, because consumers are too leveraged. When consumers have over-borrowed so much that they have no more room in their credit lines to borrow more, when institutions start to get tight on lending, demand for housing will decline and so will prices. It’s only a matter of logic, reality and time.” Michael Lombardi in PROFIT CONFIDENTIAL, June 23, 2005. Michael started warning about the crisis coming in the U.S. real estate market right at the peak of the boom, now widely believed to be 2005.